This week the High Court Chief Justice Murray Gleeson made comment on the nature of parliamentary democracy that has particular relevance to the alienation issue and the application of income tax law to Australia's 1.6 million independent contractors.
Justice Gleeson's comments related to the danger posed to democracy of regulation being in the hands of government authorities instead of parliament. This is the core problem that caused the community backlash over the tax alienation rules.
Anyone who reads the 44 paged Explanatory Memorandum to the alienation legislation and the 324 clauses in the draft tax rulings will be more confused at the end than when they began. The devil's detail puts the power in the discretionary hands of the ATO.
Take just one example. To pass the business test a contractor must have clients that are "not associates of each other". But the definition of "associate" is not clear. If an IT contractor does work for IBM and also works for another company partially owned by IBM are the companies "associated?" Do common directors constitute "association?" The legislation is unclear and the lack of clarity means the answers are subject to interpretation by the ATO.
This is bound to lead to anomalies. For example the ATO has been known to reject contractor airfares as deductions because the travel allegedly constituted travel to and from work. Yet if the contractor's client paid the airfare the expense would be tax deductible for the client.
The alienation legislative uncertainty contrasts to the successful approach under PAYG. The historical concern of the ATO with contractors was that they fell outside the PAYE common law definition of employees thus denying the ATO legislative power to require remittance of tax at the point of earning. This has been fixed under PAYG where now straightforward legislation defines how "at source" tax remittance is required for direct and labour hire contractors. There is no confusion and contractors know where they stand. This high standard of legislative clarity is what is needed for alienation.
And when the swirling confusion of the alienation act is stripped away, 2 simple questions seem to sit at the core. When does a payment to an "associate" (a spouse) constitute income splitting and when is an alleged business expense actually a personal expense? These deduction issues are not contractor specific but apply to all income earners.
If a person makes payment to a spouse when the spouse has not worked, or claimed phone expenses when the calls were private, this is fraud and already caught within the tax act. If the fraud provisions need to be tightened and made specific, do it! But the approach under alienation has been a convoluted attempt to describe what a business is, rather than detailing what deductions are disallowed.
It's like trying to catch a mouse by putting traps in every square centimetre of the house but none in front of the mouse hole. The infested house still stands but no human dares go in for fear of being trapped by unintended consequences! Lack of certainty over what is or is not an acceptable business expense cause people to not engage in business. Opportunities are lost.
However the problems over this current approach to alienation needs to be kept in perspective. The ATO and government deserve commendation for success in completing perhaps the largest reconstruction of tax administration attempted in any country and within a staggeringly short time span. The outcome is a better and more equitable administrative system of tax collection.
The BAS and alienation issues have been comparatively small glitches borne from the ATO having to comprehend a rapidly changing work culture in which people work but are not employed. This new way of doing business is alien to the direct experiences of ATO personnel and is perhaps the real "alienation" issue that needs addressing.
The business comprehension problem by the ATO is not isolated to Australia. The UK tax authority's similar approach to targeting contractors found its way into the UK High Court. In commenting on the UK dispute the judge said that the difference between the tax authority and contractors is, "one of approach rather than one of really indicating a dispute of fact". The urgent need is to achieve an accurate understanding of the way business structures and relationships are changing.
The decision by the government to drop the ATO assessment requirement for those who failed the "80% rule" is as the HIA said a "stunning victory for common sense". The next step is to look to simplify and tighten the legislation even further so that taxpayers and the ATO have clear legislative instructions to guide their actions.
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